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Finding Your Way Around Forex Trading
Table of Contents
How to Get Started in Forex
Forex Basics
A Popularity Contest
The Forex Market
Before You Begin
All About Trends
Multiple Time Frame strategy
Normal Trading Strategies
Flags and Filtering
Rounding Off
3. How to Get Started in Forex
How to Get Started in Forex
Basically, Forex, or currency market or foreign exchange market, is a market
wherein one currency is traded for another. Additionally, Forex is one of the
largest markets in the world. The goal of some participants in the Forex market
is to seek an exchange of a foreign currency for their own. A large part of the
market is made up of currency traders, who speculate movements in the
exchange rates, similar to others who speculate movements of stock prices.
Learning Forex
4. The investments placed on Forex markets normally deal with the four major
pairs, namely EUR/USD, USD/JPY, GBP/USD, and the USD/CHF. These pairs
are also considered as blue chips.
Additionally, the foreign exchange market is unique due to several aspects,
such as: the trading volumes, extreme market liquidity, the large amount and
variety of traders, geographical dispersion, 24-hour trading, the factors
affecting the exchange rates, and the low margins of profit with other fixed
income markets.
The exchange-traded foreign exchange future contracts were first introduced
in the year 1972 at the Chicago Mercantile Exchange. Future volumes of Forex
have grown rapidly in recent years, and accounts for about seven percent of
the total Forex market volume.
From Stocks to Forex
Most traders in the United States are involved in stock trading. Within that
5. environment, a trader who is following a trend for as long as possible would not
have any difficulty in making money. The stock market is also a very forgiving
market, which would bail out even poor traders. The only trick is to understand
the difference between the good and the lucky. There are several talented
traders who can falter when the conditions of trading become less then ideal.
Although both the stock and Forex markets involve risks, the latter is not
conducted on a regulated exchange, thus there are additional risks correlated
with Forex trading. However, traders previously involved in stock markets are
transferring to Forex markets due to a number of benefits.
One is the greater leverage. Forex trading provides greater leverage compared
to the traditional stock trading, which only allows traders to be in charge of
larger positions with smaller amounts of capital. Greater leverage allows an
individual to trade the same size positions that he or she might take with a
stock broker, while leaving him or her with more available capital to trade
more markets.
In Forex markets, there are no middlemen. When trading directly in Forex
markets, the only players are the dealer and the primary market maker, or the
6. trader and the buyer or seller of the currency pair; no extra parties are
involved. On the other hand, the stock market involves the trader, broker and
the exchange, who both charge commissions and fees.
Stock Market Headaches
There are a number of unpleasant events that a person must learn to deal with
in life. After a while, these problems are no longer considered as a burden but
instead a norm. As for traders, there are also unpleasant occasions that can be
considered as normal or a part of the job.
One of these problems is the partial fill. The partial fill is a normal incident in
stock trading. It occurs when a trader puts an order for a definite number of
shares and instead receives only a portion of the order. The market will not be
able to absorb an entire order if there are not enough shares available at a
defined price. This can be frustrating for the trader, especially if he or she
wants to pursue large orders. Still, this kind of event is considered as normal
for equity traders.
7. Slippage is another problem that futures and stock traders encounter every
day. By definition, slippage is the difference between the anticipated
transaction costs and the amount actually paid. Slippage tends to cut into the
traders profits and is a major headache for futures and stock traders.
Aside from those two, another hurdle that a trader must overcome is the
specialist. A specialist is an individual who controls all the trading activity of a
listed stock. More so, the specialist also controls the spread; he or she can
widen or narrow the spread at his of her discretion. Hence, the specialist can
either make your trade successful or make your life miserable.
The uptick rule is another frustrating obstacle that faces the success of an
equity trader. Stock traders can place a trade that will become profitable if the
stock rises whenever they wish. However, if they desire to place a trade that
will become profitable if the stock falls, the traders must go through several
machination processes that can be both costly and problematic.
Stock Market Headaches in Forex
8. Fortunately, the Forex market is less problematic compared to the stock
market. The currency market is considered as highly liquid or thick. This is the
reason why the partial fill headache evident in the stock market is extremely
rare for all but the largest traders in the foreign exchange market.
Additionally, the slippage is also rare in the Forex market. Several foreign
exchange market makers have a one slippage policy, thus giving currency
traders a superior degree of certainty regarding the price.
As for the specialist, there are no specialists in the foreign exchange market.
More so, the spread is often fixed in the currency market. This allows the
trader to another greater degree of certainty.
Lastly, the Forex market has no uptick rule. The trader can buy or sell at his or
her own will. Conversions, bullets or married puts are not required to be
purchased.
Forex Basics
Forex Basics
9. Whenever people travel outside their home country, there is good chance that
they have performed currency transactions. Travelers, in many cases, are
required to exchange their home country’s currency for the currency of the
country they are visiting. Much like the Forex market, there are two currencies
involved in such occasions but only one exchange rate.
The U.S. Dollar and the Canadian Dollar
Back in the year 2002, travelers would have received an estimated C$1.60 in
Canadian currency for every U.S. dollar. It is safe to say that the exchange rate
during that year for the U.S. dollar and Canadian dollar was about 1.60
Canadian dollars for each U.S. dollar.
Years that followed resulted in a dramatic change in the exchange rate and by
the year 2006, the rate had fallen to 1.10. This only means that a traveler from
the United States would only receive about C$1.10 in Canadian currency for
every U.S. dollar exchanged. The measurement of very small changes in this
exchange rate can be expressed using 1.1000. If so, the U.S. dollar
significantly depreciated against the Canadian dollar during the early part of
the twenty-first century.
10. Eventually, the rate of the Canadian dollar approached parity with the U.S.
dollar. U.S. citizens were also less likely to visit Canada, because if they did,
they were more likely to spend more than they would have in the past, when
the exchange rate was more favorable. On the other hand, travelers from
Canada were more likely to visit the United States, since their currency bought
more U.S. products than it had previously.
The U.S. dollar and the Euro
The rise of the Euro also created a similar situation to that of the Canadian
dollar. In 2002, 2003 and 2004, the Euro created dramatic gains against the
U.S. dollar. Additionally during those years, the value of the Euro rose from
US$0.85 to above US$1.35. Because of this movement in the exchange rates,
citizens from the United States found that vacationing in Europe became very
expensive. This kind of change caused a huge influx of shoppers from Europe
traveling to the United States, especially during the Christmas season.
There is no doubt that fortunes were made and lost on huge movements, such
as those mentioned. However, it is important to remember that even the
11. tiniest shift in the exchange rates can also result in substantial gains and
losses.
Understanding the Exchange Rate
An easy way to understand the exchange rate is to think of the base currency
as the number one. For instance, assume that the exchange rate for the
EUR/USD pair is 1.2904. Since the base currency is Euro, that is also the first
member of the pair. Thinking of Euro as the number one will only mean that
one Euro would be worth approximately $1.29 U.S. dollars.
But how do these movements in the exchange rates translate to the Forex
traders bottom line? With trading a pair, like the EUR/USD, the U.S.-based
trader will note that the pair has a fixed value of $10 per pip. This is also true
for all pairs that have USD as the second currency. Hence, in any currency pair
containing USD as the second currency, a flattering movement in the exchange
rate of 10 pips will make a gain of $100; unfavorable movement of 10 pips
would cause a loss of $100. In the case of the EUR/USD pair, a gain or loss of
10 pips can happen easily since the pair moves about 100 pips each day on
average.
12. Terminologies in Trading
A non-trader or a beginner can get easily confused around traders, since they
mostly use their own language. This kind of language is easily synonymous to
a secret handshake, which would let others know that they are a member of
the group.
First trading terminology is going long. Whenever you hear this come out of a
traders mouth, it only means that he or she is placing a trade that will only be
profitable if there is an evident rise in the exchange rate. selling short, on the
other hand, means that the trader will be placing a trade that will only be
profitable if the exchange rate falls. Flat means that the trade is neither long
nor short. More so, the trader saying this has no open positions in the market.
Another trading term is the pip. By definition, the pip is the smallest increment
of price in Forex markets. It is also an acronym for the phrase percentage in
point. An example for this term would be when supposing the exchange rate
for a pair rises from 1.1000 to 1.1001. It is safe to say that the rate rose by one
pip.
13. Included within the trading terminologies are the major currencies, such as:
EUR for Euro, GBP for Great Britain pound, JPY for Japanese yen, USD for U.S.
dollar, CAD for Canadian dollar, CHF for Swiss franc, AUD for Australian dollar
and NZD for New Zealand dollar.
Nicknames are also used in trading. These are slang terms that several traders
like to use. Several examples of these nicknames are: cable or sterling for the
British pound, greenback or buck for the U.S. dollar, single currency for the
Euro, Swissy for the Swiss franc, kiwi for the New Zealand dollar, loonie for the
Canadian dollar, and Aussie for the Australian dollar.
A Popularity Contest
A Popularity Contest
For several years, more investors grew dissatisfied with the performance of
markets relying on domestic stocks. Because of this, began to venture into
other options for international investments. There are several opportunities for
foreign markets but foreign exchange trading is becoming the most popular.
One of the reasons why investors like Forex trades is quick trading with
minimum hassle.
14. Normally, access to this kind of market has been only open to hedge funds,
major corporations and several other institutional investors. Some of the
worlds major banks have been involved in foreign exchange markets for years.
Back then, the individual trader had no way to access Forex since there were
no methods of competing with the big boys on an even playing field.
The foreign exchange market was finally able to open its doors to retail clients
in the 1990’s. Makers of online Forex market even opened the gates and made
a fortune by breaking huge trading positions into small-sized chunks that
several individuals could buy and sell.
What this means is that individuals can now make trades alongside the largest
banks in the world. More so, they can even use the same strategies and
techniques that other professional traders use. The landscape of trading has
changed suddenly and traders obtained a new alternative to future and stock
markets.
The Big Money and Forex
15. The Forex market, or sometimes called FX, foreign exchange, currency
market, and global market, may seem like the newest player on the trading
world. However, it has been the choice of market for institutional investors and
global hedge funds for several years. The big money has always traded Forex
since the large size of the market permits these kinds of traders to enter and
exit large trades without making price alterations and upsetting the exchange
rates.
During the past few years, the popularity of foreign exchange has taken off.
The daily volume of Forex market is estimated at about $1.9 trillion and still
growing. This number is still unmatched by any kind of trading market
available in the world.
Moreover, traders in Forex have the capability to utilize remarkable leverage,
which can be bigger than 200-to-1. The leverage allows traders to expand their
trading positions and may also serve to amplify gains and losses. Due to the
superior leverage in Forex, the barriers for traders are very low. Traders in
Forex markets can open account with as little as a few hundred dollars.
16. Making Money in the Forex Market
Traders of currency basically place an effort to profit from the changes in
exchange rates. Since Forex markets have tremendous leverage, there is a
small chance that the change in the exchange rate can cause a large profit or
loss. Wealth can be made or lost rapidly in the Forex market; even a shift in the
exchange rate that is equivalent to a few hundredths of a penny can be
amplified into a significant loss or gain.
There are two kinds of traders in Forex markets: the technical and
fundamental traders. The technical traders main focus is on technical analysis.
Such analysis is mainly the study of charts and indicators. These kinds of
traders believe that all the pertinent information required to put a trade is
contained within a chart.
On the other hand, the fundamental traders employ fundamental analysis.
This can be loosely described as the study of economics, focusing on interest
rates. Such traders believe that the currencies will eventually gain or lose
strength depending on their economic strength and weakness and because of
the changes in monetary policy and interest rates.
17. Trading Currencies in Pairs
The subject of currency trading in pairs can be confusing for beginners at first.
Whenever an individual enters a currency trade, it entails two currencies.
However, even if there are two currencies involved in trading, there is only one
exchange rate. Thus, every transaction or trade involves two currencies and
one exchange rate.
The value of the currency itself does not change but its value relative to
another currency can change. For instance, a single dollar you may have today
would still be worth $1 dollar the next day; although, the value of that dollar
constantly fluctuates relative to other currencies. This is the main reason why
there is a need to trade currencies in pairs in the Forex market.
The 24-Hour Trading and Trading Sessions
Forex markets are synonymous to seamless and 24-hour trading markets;
there are no rigid schedules. The market allows traders to decide for
18. themselves when to trade regardless of the time of day. There are even
part-time traders, with full-time jobs, who can trade Forex. More so, wherever
the individual is located or whatever hours he or she keeps, the individual can
still trade in the Forex market.
Since the market is open 24 hours each day, no one can really tell when the
market opens and closes at a specific time of day. It is important for traders to
designate a particular time of day as a benchmark.
Several traders begin trading at 5:00 p.m. Eastern U.S. or New York time,
10:00 p.m. London time. Since the Forex market trades 24 hours, the trading
day also ends at the same mentioned times of the day.
During that time of the day, the three largest Forex trading centers, namely
the United States, Great Britain and Japan, are quiet. However, the New
Zealand and Australian dollars may witness some action during those hours.
The trading sessions for Asia starts a few hours later, at around 7:00 p.m.
Eastern U.S. time, London midnight time. For the European session, the
19. trading begins at around 3:00 a.m. Eastern U.S. time. Lastly, the U.S. session
starts at 8:00 a.m. New York time, which is halfway through the trading
session of London.
The Forex Market
The Forex Market -- Technical Analysis
Former equity traders and futures traders have chosen to trade in the Forex
markets. They have learned that the technical analysis works exceptionally
well in the foreign exchange markets. But how does this technical analysis
work? Technical analysis is merely the analysis of the movements of the past
price to aid predicting the movements of the future price. In most instances,
the trader, who uses technical analysis, is simply looking for the repetition of
past occurrences.
The Theory of Technical Analysis
Long-term movements in the Forex market are usually related with economic
cycles. These cycles tend to repeat themselves and can be predicted with a
20. reasonable degree of preciseness. The key is repetition since the entire
premise of technical analysis lies in utilizing historical price movement to
foretell future price movement.
Within the environment of the stock market, the fundamentals of one company
can change radically in a short period of time. This fact makes past stock prices
irrelevant in the prediction of the movement in the future. Moreover, there is
no predictable economic cycle in the life of a company on an individual stock.
As a result, the technical analysis becomes a hit-or-miss proposition in the
stock market.
On the other hand, within the Forex market environment, the traders are
trading the economies of entire countries. The rudiments of these countries
adjust relatively slow, thus making the boom-bust nature of the economic
cycle easier to predict.
The Statistical Survey
Basically, a survey performed in an even-handed and fair manner will produce
21. larger samples of information, which can reveal more accurate results. The
larger size and liquidity of the foreign exchange market provides technical
analysis a greater sample of data from which to draw. There are also more
trades and much money changing hands in Forex markets compared to any
futures or stock market. The Forex market contains several data points, thus
making a statistical sampling, like the technical analysis, more accurate.
Additionally, the vast liquidity located in the foreign exchange market makes it
much less likely that irrelevant players will upset the market and momentarily
skew technical indications, which is common in liquid markets.
The Trend and the Fear of the Unknown
The main reason why traders, who like to follow trends, are drawn to the
currency market is due to the trends. Since currency pairs have a tendency to
create strong and persistent trends, the Forex market is relatively famous for
these trends. For instance, the Euro trended constantly superior against the
U.S. dollar over a three-year period. This uptrend also occurred during a time
when the United States was experiencing an economic weakness.
22. Knowing the popular trends can help overcome the fear of the unknown. It is
normal for an individual to have a fear of the unknown; this is also a typical
human behavior. Entering the Forex market, at first, can make someone think
of several concerns that might be weighing on his or her mind. These concerns
are common to traders who desire to experience the advantages of Forex, but
still reluctant to leave their comfort zone. If you are concerned about the
charts, it is important to realize that the charts used for Forex exchange rates
are not very different from the charts of other vehicles for trading, like
commodities or stocks.
The Trading Patterns and the Technical Indicators
The good news for experienced futures and equity traders is that nearly
everything that they already know about technical analysis can be applied to
the foreign exchange market. Charts used in Forex contain familiar patterns,
including the head and shoulders, double tops and bottoms and the
symmetrical and asymmetrical metrical triangles.
Traders in Forex use Bollinger bands, moving averages and MACD or moving
average convergence/divergence, which are the same indicators that futures
23. and equity traders use. There are also similar breakouts and pullbacks, ranges
and trends, and retracements and consolidations used.
Forex traders also use resistance and support levels in order to determine the
best location for entry and stop orders, similar to traders involved in stock and
futures markets. Also, the strategies involving trend lines and channels are
also popular in the Forex markets.
Before You Begin
Before You Get Started
Foreign exchange, or Forex, has been very visible in a number of business
profiles ever since small investors were given the chance to join in the realm of
currency exchange. Even though there is an evident presence of pressure and
rigors of a day job, several traders still aspire to enter and profit from foreign
exchange markets.
However, before starting any kind of trading, including those involved in Forex
markets, you should know what you are getting into: gains and losses. In
every venture, it is important to know the risks involved and the techniques in
24. stabilizing the possible outcome of every trading.
The Triple Threat Trader
Any trader who masters trading strategies and technical analysis can pinpoint
profitable entry and exit points. Mastering the fundamental analysis can help
one anticipate turning points in the markets when economies shift. More so,
the trader who understands the solid risk management can defend and protect
the account against loss in any trading arena. Any trader who masters all of
those three, namely the technical analysis, fundamental analysis and risk
management, is called the tripe threat trader.
Anyone can be the tripe threat trader. Firstly, it is important to learn genuine
techniques in detail, which can be utilized to successfully trade in the Forex
market. Learning to identify the current situation of the market, apply
appropriate strategies in trading, and adapt to alterations in the market can
help anyone master the technical analysis.
It is also important to be educated in fundamental analysis, though it can be
25. intimidating. What separates a good trader from the great one is the solid
realization of the fundamentals of the Forex market.
Risk management is one element that all traders, who are successful, share
together. Having good risk management knowledge can help evade troubles
and allow survival from the tough times and even gain valuable experience.
Acquiring Experience
Having a good trading education can help anyone in anticipating several things
that might occur in Forex; nevertheless, it does not provide experience.
Fortunately, gaining experience in trading the Forex market, without risking
money, can be done by using a practice or demonstration account. There are
several Forex market makers who offer such accounts and they often include
real-time charts, news feeds and price quotes. This is one advantage a
beginner can get nowadays. In the past, traders had to learn and make errors
using their real money.
An excellent method for potential Forex traders to familiarize themselves with
26. the market is the demo trading. It is recommended for a beginner to use a
demo account for at least several months before even making a shot at live
trading.
Aside from demo trading, mini accounts are also available, which helps
neophytes place live trades with minimal risks. These kinds of accounts can be
opened with as little as a few hundred dollars. Thus, they create one of the
lowest barriers to entry for any market for trading.
As for the transition, it is important to trade using a demo account for several
months before advancing on the mini account. Luck is never the same as a
successful trading; even if you turn profit on the demo account, but still
acquire too much risk during the process, that profit would not suffice for live
trading.
The Pair to Trade
If you are starting to trade Forex, it is necessary to begin with just one
currency pair. Moreover, an excellent way to start is with a pair that has a
27. narrow spread, like the EUR/USD pair. The spread of this pair is the difference
between the buy price and the sell price.
Additionally, the spread is considered as a formidable opponent, and there are
pairs that have wide spreads, which are suitable only for long-term trading.
Overcoming the spread can help you reach the point of the trade, called the
break-even. Thus, using a pair with a narrow spread can help achieve this
level.
Through the use of a demo account, begin with the EUR/USD pair and by the
time you feel comfortable with the way the pair moves, you can then branch
out and try the GBP/USD pair. The GBP/USD pair is similar to the EUR/USD pair
but with a better volatility.
Always remember that no two traders are exactly alike. The decision on
choosing the pair only relies on your personal style. However, any moment
when you test a new trading technique or currency pair, always remember to
do so with a demo account. Choosing the currency pair best suited for your
personality is an element of the learning process to become a Forex trader.
28. The Commodity Currencies
After knowing which pairs to trade, you can see if the USD/CAN is a pair that
you can enjoy trading. The relationship between this pair and the price of the
oil is strong, since the Canadian dollar often gains ground as the prices of
energy rise and falls when the energy prices weaken. Commodity currencies
are the currencies that share a strong relationship with the price of a
commodity, like oil.
There are several commodity currencies that you can explore. One is the
CAD/JYP, which has an even stronger relationship with the price of oil. Another
pair is the AUD/USD. The AUD or Australian dollar usually rises and falls along
with the price of gold. Such correlation is extremely useful to currency traders,
who frequently witness occurrences where the price of gold appears to lead the
Australian dollar.
All About Trends
All About Trends
Like some activities in our daily lives, we use techniques to cope with different
29. situations. Trading is very much the same. In trading the Forex market, there
are several techniques available and no one of these techniques will work all
the time. Techniques are designed to help a trader survive a specific condition
within the currency market. Thus, it is an important ability of the trader to cope
and adapt with any condition and be able to vary his or her own trading style
that suits a particular technique appropriate for a crisis.
In trading, there are three basic types of conditions, such as: Range-bound,
wherein the currency pairs bounce between support and resistance; Trending,
wherein the pairs have a definite direction; and Consolidating, wherein the
currency pairs are cornered in a narrow and tightening area.
Understanding these types simply begins by knowing that during range-bound
or consolidating markets, trending techniques are not applicable. More so,
when the market is experiencing consolidating or trending periods,
range-bound techniques are inappropriate.
The key factor, which can help a trader know which technique can be used for
what condition is to know that markets change. Normally, a pair that is
currently trending would begin to move into a consolidation phase or in a
30. range, sooner or later. Traders must be nimble and have the capacity to adapt
to this kind of changing environment by using the right strategy at the right
time.
Importance of Being Objective
When a trader first starts using new techniques for trading, he might be lucky
enough to encounter success right from the start. However, there is an
unfortunate side to this kind on initial success. The trader has the tendency to
continue using that same trading technique, even though the market has
clearly altered and the technique is no longer applicable. Falling in love with a
technique should be avoided since the result can be devastating.
If this happens to a trader, it is advised to remain objective and understand
that while short-term success in not common, it is surely not the ultimate goal.
Luck can be brought to anyone but it does not last for long. It is important to
know that the markets are not static and it is up to the trader to distinguish and
cope with the changes.
31. Starting With a Tendency
Market tendency is the core component of every good trading strategy. By
observing a market for a long period of time, there are noticeable tendencies,
like when the currency market tends to shape long and strong trends. Another
instance would be the markets tendency to look for support or resistance at
large round numbers; this kind of tendency is called the psychological
tendency, which can happen at any trading market. There is also another
situation where the market has the tendency for a strong breakout to occur
instantly following a tight consolidation. The trader can use these tendencies
and make them the foundation from which to create a strategy.
An authentic tendency can be identified by reason. For instance, a round
number support and resistance occur when people often locate their entries,
stops and exits right at round numbers.
The truth of the matter is, not all traders consult a chart before putting a trade,
and there are some who have very general thoughts as to where they wish to
place their orders. These kinds of traders often place entry, stop and exit
orders at round numbers and the orders assemble at these levels. When this
32. happens, the round numbers frequently correspond with the key levels of
support and resistance in the futures and equity markets, as well as in the
foreign exchange markets.
Applying Trends
Traders can utilize trends to their own benefit. For example, when the market
is trending, it has preferred a clear direction. Traders can assume that this
trend continues, since history dictates that in the currency market, trends can
last for several years. If the trader is able to get on the right side of the trend,
he or she might have the opportunity to enjoy considerable gain.
It is easier and profitable for traders to allow their winning trades to run in a
trending market, since the exchange rate has a clear direction. For as long as
the currency pair moves in the direction, the traders defensive stop is less
likely to be prompted.
Conversely, with the case of the sideways or range-bound currency pair, the
price has the tendency to return to the entry point, for such a reason that this
33. kind of pair has no real direction. This kind of situation makes it hard for
traders to hold on to their positions and even forces them to be quick regarding
exits.
The Trending Market
Traders can use several techniques to determine whether a market is trending.
One method is to use moving averages, also known as proper order of moving
averages.
Another method is by using the ADX or Average Directional Index indicator.
This indicator states the strength of the trend without regard to the trends
direction; high readings can indicate strong trends.
A trend line is also used to determine if a trend is in effect. Simply, the trend
line is a line drawn beneath an uptrend, or above a downtrend, and specifies
the general direction of currency pair.
The Formation of Trends
34. The reason why trends form is because of the economic cycles. In Forex
markets, traders trade economies of an entire nation. Normally, when the
economy of a country is either strong or weak, it remains that way for years.
More so, the strength and weakness of an economy runs in a cycle that is
measured in years. There are four stages that traditional business cycles
undergo, including the expansion, prosperity, contraction and recession,
respectively.
Moreover, the economic strength and weakness usually reflect in the currency.
Since currency markets involve matching two currencies against one another,
situations can arise wherein one currency is stronger than the other in the pair,
thus resulting in a trend, which can last for months or years.
It is a rule for a trend-following trader to not fight the trend. It may be
tempting to apply and deduce the point at which the trend will undo though
this is exactly what traders should avoid. While it is possible to gain on a
countertrend move, a trader who always trades in this manner is stacking the
odds against himself.
Multiple Time Frame strategy
35. Using a Multiple Time Frame Strategy with Forex
One of the most dependable features of the currency market is its tendency to
form trends in an assortment of time frames. Trends with the Forex market can
linger for weeks, month or even years and traders who support themselves
with these trends can improve their chances for success.
Why Does Multiple Time Frame Strategy Works
The multiple time frame strategy allows the traders to trade only in the
direction of the overall trend. Additionally, it requires the trades to be placed
only after the price has pulled back to a favorable entry point. In short, the
strategy does not allow the traders to enter long at the highs or short at the
lows.
The technique can also be utilized for shorter time frames. Like for example,
when the active day trader can use the four-hour chart for long-term reference
and a 15-minute chart for short-term reference.
36. By performing a role of a trend trader, your main objective is to use the trend
to your own advantage. If the currency pair is in a downtrend, you should look
only for short entries and ignore any opportunity to go long. More so in the
same instance, if the pair is rallying, you must find your entry point and locate
a greater resistance level.
The Tops and Bottoms
If the trader waits for the oscillator to turn before entry, he will not be able to
enter at the absolute peak. There are several traders who seem to be
excessively concerned with achieving the ultimate entry point; they desire to
sell short at the peak and proceed long at the absolute bottom.
The problem in choosing tops and bottoms is that it is a dangerous game. No
one can really foretell the peaks and valleys in stocks, options, futures, as well
as Forex. Any trader who tries to achieve this is simply attempting to get lucky.
If the trader waits for the momentum to turn, he or she has no chance of
entering at the very top or bottom which is fine. Always remember that an
37. experienced trader is willing to sacrifice a portion of the move, in exchange for
the enhanced probability of success that patience grants.
The Entry Signal and Stop Placement
To know when to enter your short trade, it is important to refer as the
exchange rate slides and the RSI descends from overbought levels. The trader
can enter short within the vicinity or point at which the Relative Strength Index
is no longer providing an overbought reading; this should also be the point
when the exchange rate drops.
RSI or Relative Strength Index is used to measure the activity of the market as
to whether it is over sold or over bought. Additionally, it provides the trader an
indication as to which way the market is going.
Placing the stop is also important and must be immediately applied in order to
gain protection from any adverse movement. The trader must know how to
stop at a certain point, again by referencing the RSI. It is important for the
trader to consider the possibility, that after his or her entry, the exchange rate
38. could rally further. If the pair trades above the stop point, it is advised not to
hold on to it, as it could only be breaking out to the upside. And so, the stop
should be placed in a location where the trader will be taken out of the trade if
a new high is reached.
Knowing When to Stay Out
If the currency pair is rising up from support, the trader should not enter a long
trade and try to gain from a possible bounce. In a multiple time frame strategy,
the main focus is to trade only in the direction of the trend and to disallow
trades that go against the trend.
It does not mean that the trades going against the trend are never profitable
because anything can occur in an individual trade. A trader who fights against
the trend on a steady basis will only have difficulty in finding success, as
opposed to some who follows the trend.
When a trader properly uses the multiple time frame strategy, he or she has
the capacity to see the exchange rate rising. This kind of trader would not also
39. be tempted to go long and battle against the odds. The correct attitude for
trading should be to allow the exchange rate to rise and hope that it creates
another opportunity for short entry.
Normal Trading Strategies
How To Use Normal (Non-trending) Trading Strategies
In the foreign exchange market, it is no doubt that fortunes can be made from
trends. However, it is not always the case when the market cooperates. The
trader must be able to develop solid techniques for times when the market is
not trending. Doing so can be done around specific tendencies that are most
common to the currency market.
The Key Indicator
In Forex trading, there are several indicators that people use, including the RSI
or relative strength index, the exponential moving averages of EMAs, and the
Bollinger bands. However, there is another indicator that stands above the
rest, which is the price. It has always been the ultimate indicator, compared to
other mentioned indicators who are merely equations of formulas that are
40. applied to the price.
A good example is the moving average because it encompasses the average
price of the trading vehicle over a selected period of time. The RSI or stochastic
oscillators are used to measure the difference between the current price and
the recent prices in order to determine if the pair is overbought or oversold.
Technically, the Forex market does not have a price per se and instead, there
is an exchange rate. The rate allows the traders to compare two currencies in
one equation. Thus, the price is only another term for exchange rate in
currency trading.
There are two elements correlated with the price: the support and the
resistance. The support happens when the buyer continuously steps in at a
particular price. On the other hand, when the seller repeatedly steps in at a
specific price, this is known as the resistance. The support and resistance can
be metaphorically referred to as the floor and the ceiling, respectively. If the
price can bounce from the support, it can also fall from the resistance.
41. The Intraday Breakouts
When the trader is participating in any kind of trading, like the intraday
breakouts, it is important for him or her to remember to use every type of
advantage possible. Traders normally search for situations wherein the odds
are in their favor, and then take the necessary course of action.
There are several instances of false breakouts in all types of trading,
regardless of the trading vehicle. The false breakout only occurs when the
price appears to break below support or above resistance, only to rise back
above support or fall back below resistance.
There are negative effects of false breakouts and in order to reduce them, and
improve the chances of success, it is important to apply intraday breakouts.
The Triangles
Triangles, in trading, can either be ascending or descending. They can create
great intraday breakout opportunities, due to their pattern, which creates a
42. directional partiality for the currency pair. Firstly, the ascending triangle is
formed by the combination of diagonal support and horizontal resistance. On
the other hand, the descending triangle is formed through the combination of
the diagonal resistance and the horizontal support.
The Trend Filter
Traders can increase their edge and take it to the next level. More so, traders
can also gain a further edge by checking the direction of the currency pair
preceding the information of the triangle pattern, when trading ascending or
descending triangles. This is for the reason that it is not abnormal for a
currency pair to trend in one direction, then consolidates and then resume
trending in the same direction. The pair trending in the same direction prior to
the formation of the triangle pattern can only cause the trade to become all the
more compelling.
In trading, when you notice that the pair has been trending steadily heavier, it
is important to use the power of this trend to your own advantage. You must do
this in order to reduce false breakouts from happening and enhance your
chances of success. Through filtering the breakout trades, you are again
43. integrating the trend into your techniques.
Remember that the general rule for the trade is always to trade with the trend
and never fight it. Traders who fight against the trends often get disappointed
with their actions.
The Time-Of-Day Filter
The time of day is anther edge that traders can utilize when trading intraday
breakouts. In trading, there is a saying stating that a breakout is believed to be
significant if it happens on high volume, and is considered less dependable if it
happens on low volume.
Within a high-volume environment, the move is deemed real since the players
are placing significant amounts of capital work. On the other hand, order that
normally would not have a significant impact on the exchange rates but have
the ability to move markets are included within a low-volume environment.
If the trader applies buying or selling pressure at the right moment, the
44. institutional traders can cause pools of orders to be implemented, thus
generating commissions. However, this is easier to accomplish when the
volume is light and the move tends to be succinct.
While traders do not have the capacity to easily access precise volume figures,
the trading is not equally liquid at all time of the day. Additionally, there are
certainly times of the day when large volumes are generated.
Flags and Filtering
Talk About Flags And Filtering Entries
In Forex markets, there is a situation when the traders often witness the price
fall rapidly, then consolidate, and then continue its fall. In between these two
falls is a period of rest, also known as consolidation. A currency pair
consolidates its gains or losses before moving on. A rest period indicating that
the exchange rate will continue to move in its previous direction is referred to
as the continuation pattern.
The Flags
45. Flags, as well as pennants, are short-term continuation patterns. After the
formation of the flags, the exchange rate has the tendency to resume its
movements in the same direction as it was preceding the consolidation. Flags
are usually found on intraday and short-term charts.
In the case of the flags, the preliminary move is a sharp, sudden directional
thrust. Even if the move is an advance or decline, it does not matter. What
matters is the velocity of the move. The sharp burst generates a long candle or
even a series of long candles on a short-term chart; this is also known as the
flagpole.
Flag formations are also in continuation patterns, which mean that the most
likely decision of the consolidation will be a breakout in the similar direction as
the flagpole. Generally, flags contain two parallel lines sloping away from the
direction of the flagpole.
The Filtering Entries
46. There are impatient traders who opt to enter when the price clears the upper
line of the flag, instead of waiting for the price to reach the right entry point.
This is absolutely a mistake. Normally, if the exchange rate escapes from the
formation of the flag but fails to clear the top of the flagpole, there is no reason
to assume that the trade should be triumphant. However, by waiting for the
exchange rate to clear the top of the pattern by an amount equal to 10 percent
of the flag, traders can filter out a poorer entry that would have been
disastrous.
The Volatility Cycle
It is not unusual for volatility to run in cycles. Usually, periods of high volatility
are followed by periods of low volatility. An explanation for this event is best
described in a situation when the market is trending. Forex market often
trends and the participants have a definite opinion regarding the direction of
the trade.
The cycle can be observed in any trading market though it is most closely
distinguished with options trading. Traders in this kind of market write put and
call contracts during times of high volatility in order collect the cost of the
47. contract, or the premium. Premiums that are attached to the contracts have
the tendency to be fatter when the markets are volatile.
The option writer then assumes that the volatility will go back to normal levels
in the future. This would allow him to buy back the contracts at a reduced
premium. This concept is also known as selling volatility. This kind of cycle in
volatility can also be observed in the foreign exchange market.
Moving the Market through Perception
Traders show a strong preference for one currency over another, when a
currency pair begins to trend. When strong trends happen, the market is
volatile due to the price movement. The perception of value has altered and
the price must move to reflect this change of opinion.
When the time comes that the trend has continued for a while, the pair will
achieve a certain point where the participants feel that the exchange rate is
valued fairly. More so, there will come a point when the bears and the bulls
reach an agreement, temporarily, that a currency pair is reasonably priced.
48. This period of rest or consolidation will eventually come to an end. The bulls
and the bears may have attained a temporary agreement, but eventually new
information will be introduced into the market. Hence, the perception of the
value of the currency pair will modify as this news is absorbed.
Normally, the catalysts for this alteration of opinion are the economic
indicators. Exchange rate breaking out of its narrow period of consolidation
and run until the price achieves a new area, where the bulls and bears are once
again able to reach a temporary break can be caused by unexpected news
events.
Rounding Off
About Rounding Off
We perform rounding off numbers in our daily activities, be it going to the
market, considering the temperature, or buying a piece of property. All of us
are drawn to round numbers or those that end in zero. In trading, round
numbers have a major role to play.
49. The Reason Behind the Interest in Round Numbers
The Dow Jones Industrial Average approached the 10,000 mark for the first
time in March of the year 1999. The event included index testing investors for
approximately two weeks before finally closing above 10,000. This event was
greeted with elaboration because it was a significant milestone.
Seven years later, the extensively tracked index was trading at an estimated
11,000. The investors who frenzied during the peak of the Dow 10,000,
however, had little to show for it.
Back then, the success of Dow was highly publicized and filled the front pages
of newspapers and magazines. Channels for financial news ran four-hour
television specials advertising the event. At the time, the whole market was
absorbed on the figure.
There are some scientists who believe that human beings generated a numeric
system called “base-10” because we are born with 10 toes and 10 fingers.
50. More so, we began to believe in terms of factors of 10.
The Effectiveness of Round Numbers
Traders and investors have a strong tendency to put orders that coincide with
round numbers. For example, an analyst may have said that he would buy a
specific stock if it falls to a specific amount, for instance $40. If several traders
placed buy orders for that stock at $40 per share, since they believe that the
stock is a bargain at that price, the stock will encounter a large pool of buy
orders. When these orders are activated, they can unleash an incredible
amount of buying power. When buyers are more aggressive or outnumber
sellers, the price will surely rise.
Basically, the buyers have generated a support level at $40, since several
orders have accumulated at that level. Traders call this as the psychological
support, since it is not entirely based on any prior price action.
This phenomenon is real and normally happens in all forms of trading,
especially in the Forex market. The reason why commodities, currencies and
51. stocks are all subject to round number phenomenon is because it is a part of
the human nature to be attracted to round numbers. Therefore, the event can
occur in any market traded by humans.
Round Numbers in Forex
There is a profound influence of round numbers in the Forex market. For
instance, back in the early part of 2005, the USD/CAD currency pair found
support repeatedly at 1.2000. Another is in early 2006, when the EUR/USD
buyers stepped in repeatedly within the vicinity of 1.2700. Traders who use
such round numbers as entry points were rewarded handsomely.
A pool of large orders can generate an attractive target since banks can earn
commissions when their customers orders are implemented. More so, since
the orders tend to congregate at round numbers, the trader can take this
tendency into consideration when creating his or her strategy.
The First Bounce is The Best
52. For a day trading strategy, time frames will be strangely short. This is because
the first bounce off of round number support or resistance is normally the best
bounce, and so traders desire to be certain that they are seeing the first
bounce. On the other hand, longer time frames cannot also be used for this
kind of strategy since they can hide multiple bounces within a single candle.
Every moment the exchange rate achieves the round number, orders are
normally executed, and the pool of orders that produces the level of support
and resistance is diminished. Once the total of orders remaining is no longer
enough to repel the exchange rate, it is not odd for the level of support and
resistance to break, sooner or later.
This is why it is very essential for the traders to trade the first bounce off of the
round number, since it is at this point that the pool of orders is most valuable.
The traders can also trade subsequent bounces as well, though the first bounce
always has the greatest potential.
Interest Rate
Interest Rate
53. Getting something extra without the added cost can be a nice change
sometimes. The ultimate traders dream is to enter a trade and turn a profit
even though the currency pair does not budge. There are others who desire to
make money off their trades, even though the market is seemingly
uncooperative. This would surely make trading a lot easier. Although it may
seem farfetched to those who are unfamiliar with the methods of Forex
market, that is exactly how the hedge funds, banks and other institutional
traders play the Forex game.
The Interest Rate Differentials
The heart of this technique lies on the interest rate arbitrage and in the reality
that every currency has a matching rate of interest. The rate is determined by
the nations central bank or the nations that use the currency. For instance, the
Federal Reserve sets the U.S. interest rates, while the interest rate for France,
Germany and other nations of the European Monetary Union are determined
by the European Central Bank.
In the Forex market, currencies trade in pairs and each currency has an
equivalent interest rate. For these reasons, there are two different rates on
54. interest for every pair involved. Generally, a disparity exists between the
rates, and so in most cases, one currency yields higher than the other.
Large institutional traders seek to exploit this kind of edge. Additionally, the
trader can be long one currency and short one currency in every foreign
exchange market. The trader who is long, the higher yielding of the pair
collects interest on the trade.
In contrast, the trader who is short, the higher yielding of the pair is required
to pay the interest. The amount of the interest that the trader either pays or
collects is based on the interest rate differential. This factor is described as the
difference in the interest rates between the two currencies.
How Does the Interest Rate Differential Works
Suppose that a certain trade is placed in the imaginary currency pair, say
ABC/XYZ. The rate of interest for the ABC currency is 4.0 percent, while 1.0
percent for the XYZ currency.
55. Hence, the ABC yields higher than the other. Traders who are long ABC and
short XYZ will collect 3.0 percent in interest, which is the differential between
ABC and XYZ. Note that the trader must be long the higher-yielding currency in
order to collect the interest.
However, traders who are long XYZ and short ABC must therefore pay the
same 3.0 percent in interest rate differential. Arbitrage traders who are long
the higher-yielding currency seek to collect interest every day, given that they
hold the currency pair.
For starters, this might seem at bit simple. However, there is more to this
strategy than merely matching up a currency that is yielding high against a
currency that is yielding low. Traders utilize this strategy when they are able to
identify a situation where the interest rate differential is likely to expand over
time.
Such event would result in an even greater payoff for the trader who is long the
higher-yielding currency. Normally, traders would leave the strategy when it
becomes evident that the interest rate differential will stop growing or become
smaller in the future.
56. Changing the Differentials
By using the previous example provided, assume that the traders are trading
currency pair ABC/XYZ, and they are collecting interest since they are long
currency ABC and short currency XYZ.
If there is a strong economy for ABC, the central bank handling the currency is
likely to raise the interest rates to control inflation and contain growth. When
the bank takes a course of action, the interest rate of ABC rises from 4.0
percent to 4.25 percent, thus causing the differential from 3.0 percent to 3.25
percent.
Similarly, if there is an apparent weakness in the economy of XYZ, its central
bank is likely to lower the interest rates in order to encourage demand and
promote growth. The interest rate for the currency will be lowered from 1.0
percent to 0.75 percent, thus the differential would have grown to 3.5 percent.
The traders, who are encouraged by the growing interest rate differential, go
57. long ABC and sell short XYZ to collect the extra interest. If there are enough
traders tempted to go long ABC and sell short XYZ, this event will create a
positive pressure on ABC and negative on XYZ. Thus, the currency pair will
begin to rise.
Collecting the Interest
There is an advantage to this technique, which is the ability to turn a profit in
spite of whether the trade moves in the preferred direction. For instance, if the
trade maintains its flatness for several months, the trader can still come out
ahead given that he or she collects interest. Moreover, this will provide the
trader an exceptional edge.
When comparing this kind of situation to the trader who is on the other side of
the trade, he or she must pay the interest day by day, even if the trade moves
in the preferred direction or not. The trader who is short the higher-yielding
currency is required to regain the interest lost to break even.
The Boomerang Effect
What is the Boomerang Effect?
58. The Forex market also has the tendency to be very quiet at certain times of the
trading day. There is an evident stretch of a number of hours, starting after the
United States Forex session ends and prior to the beginning of the Asian
session, which also tends to be very low in volume. Although the New Zealand
and Australian Forex markets are full of life during this time of day, the entire
volume is relatively slim.
The reason behind this is the inactivity of the three biggest Forex traders,
namely Great Britain, United States and Japan, during this time of day. Under
these situations, the currency pairs have the tendency to drift, and any
movement in the market becomes highly suspicious.
Fading of the False Breakouts
During these hours, breakouts that happen are infamously unreliable since
they almost always occur on very low volume. More so, a trending technique is
also inappropriate due to the lack of direction from the market. Since any
movements that occur at this time of day are undependable and likely to
retrace, the traders can create a strategy that is designed to capitalize on false
59. breakout events through fading or trading against them.
This specific time of day is also considered as the beginning of the Forex
trading day. Due to this fact, it is also the same time that a number of market
makers choose to charge or credit interest. Nevertheless, unlike a strategy
involving an interest rate arbitrage, this kind of short-term trade is not
designed to collect interest.
The traders can integrate a defense against interest rate charges by choose to
enter order just after 17:00 Eastern time. This would normally link to 22:00
GMT during standard hours or 21:00 GMT during Daylight Saving Time. Either
way, the time of day for this kind of trade will constantly be just after 17:00
Eastern U.S. time.
The Strategy Used
This kind of strategy is exclusively designed for the EUR/USD currency pair.
The agenda is to enter or sell order above the market to fade a move higher
and enter a buy order underneath the market to trade against a move lower, at
60. the same time. In both of these cases, the traders assume that any movement
in whichever direction is false and the exchange is likely to retrace.
Such a directional move can be caused by a large order, which would not have
the ability to move the market under normal situations. More so, since the
volume is extremely low during this time of day, the orders have the ability to
generate market movement under thin trading circumstances.
How to Set the Parameters
The buy order will be situated 15 pips below the opening price, while the sell
order at 15 pips above. The traders stop will also be located 15 pips away, thus
creating a ratio of 1:1 for the trade.
Fixed-pip parameters can be set, since this kind of trade is only for the
EUR/USD currency pair. However, if the trader attempts to use this technique
on another currency pair, the parameters should be altered and adjusted to
account for the difference in volatility. Additionally, the trader is also required
to consider the kind of spread for most currencies, which is wider than the
61. EUR/USD pair.
This kind of strategy is designed for quick profits, hence perfect for the
EUR/USD pair. This currency pair tends to consist of a narrow spread, making
it ideal for short-term trading.
Entering the Trade
Entering a trade can be done by considering an example when the opening
price on a five-minute EUR/USD chart is 1.2593, at 17:00 Eastern U.S. time.
The traders must place order 15 pips above the opening price at about 1.2598.
Additionally, he must place a buy order 15 pips below the open at about
1.2568.
If the trader does not execute the trade within two hours, he or she must
cancel both the orders. During that point, there is no valid reason for placing
the trade since the Asian markets are starting to wake up and the volume and
volatility are about to increase. Moves are more likely to be authentic, when
real volume enters the market. In this instance, the strategy that fades
62. breakouts would be inappropriate.
Scoring Big Gains
How to Score Big Gains
A trading neophyte does not have the experience which allows him or her to
anticipate and avoid trouble. This kind of trader is more likely the prime
candidate to do damage to his or her own account. It is very important for the
goals to be in tune with where the trader stands as a trader. The first-time
trader must not have an aspiration of doubling his or her account overnight.
Although big gains are possible, it is important not to expect everything to fall
into place overnight. Always start with an easily achievable goal and once the
first obstacle has been conquered, move on to the next one, and then the next.
Setting the Goal Properly
It is not unusual for traders to get excited when they first get involved with
trading. Since the rewards of trading are fantastic, it is easy to get excited and
lose concentration and objectivity concerning trading. Basically, excitement
63. clouds the better judgment and most often leads to unrealistic expectations. In
trading, participants are required to keep themselves free of emotion in order
to achieve clear and rational decisions.
There are traders who are exceedingly trying to change their lives overnight
and often do what is not advised. Traders enter the market with high
expectations and are quickly annihilated. Always note that more traders fail
than succeed, and the rate of failure is high among new traders. Thus when
entering the currency market or any trading vehicle, it is important to have a
commonsense method for setting goals.
Basically, traders must rid themselves with unrealistic expectations. Even
though you have read these expectations in books, watched them on the
television or heard them from a friend, it does not necessarily mean that you
can do it too. In time, the trader will realize that a good trader rarely talks
about his or her gain.
Breaking down the Goals
64. An excellent way to attain great results is to take an ambitious goal and break
it down into small, more achievable pieces.
When traders are asked if an annual gain of 100 percent is an aggressive goal,
they would surely say yes. However, when asked if a consistent 6 percent
monthly return an aggressive target, a no would be a sure reply. What they do
not know is that if the trader has the capacity to increase the value of the
account by just 6 percent each month on a constant basis, he or she can
achieve an annual gain of approximately 100 percent.
The calculation works by starting with a base number of 100 for the account,
then multiplying it by 1.06, which is the 6 percent gain. This would end in the
first months result of 106. Next multiply the result by 1.06 and keep doing so
until the calculation is enough for the entire years worth of results or for twelve
months.
Consistency
Consistency is the key. It is not hard to attain a six percent return in any given
65. month though it is considerably harder to achieve a minimum of 6 percent
return every month. It is advised to begin with a relatively easy target, and
gradually work your way to the next level.
Instead of starting out with a goal of 6 percent per month, try starting with a
monthly goal of just 1 to 2 percent. Such goal is unlikely to place pressure on
the trader, which is essentially good, since trading is stressful enough without
any extra pressure.
By achieving a goal of just 1 percent each month, you would be well ahead of
most traders. Although a monthly goal of 2 percent may not be inspiring, if
done consistently, can help you achieve an annual gain, which is just shy of 27
percent. Additionally, achieving that goal will only prove that you have
outperformed most hedge and mutual funds.
In case you have achieved your modest goal for three months in a row, you can
then raise the goal to the next level: from 1 percent to 2 percent, or from 2
percent to 3 percent and so on. Also, do not rush things and remember that
you can gain experience and confidence from this goal, which can even make
you a better trader in the future than you are now.
66. After the Goal is reached
Once the trader has achieved his or her goal, it does not necessarily mean that
it is the end of all trading; instead he or she must take precautions in order to
safeguard his or her gains.
However, in case you ask yourself why you encounter problems or do not meet
your objectives, it may be for the fact that the goals are too aggressive. Take
a shot at an easier target and if things get really hard, stop live trading and
switch to a demo account, until the time comes when you can regain your
footing.
A Level Playing Field
Creating a Level Playing Field
It is not a lie to say that trading can be difficult. However, in an effort to make
it easier, other traders often resort to taking quick exits sometimes by trying to
make 10 pips on each trade instead of earning 100 pips on one. This kind of
attitude may seem to be sensible. Moreover, the trader seeks to triumph by
67. playing it safe, which would look like a commendable trait in world of trading.
However, instead of making things easier, the trader is in fact making his life
more difficult.
Evening out the Odds
The world of Forex trading is much like the European roulette. The zero
pockets represent the spread and the odds are forever going to be at least
somewhat supportive of the house, which in Forex is the market maker.
Similar to when each additional zero packets lower the players chances of
success, every additional pip in the spread can also lessen the chances of
success of the trader.
The house always determines the spread and the traders have no control over
it; it is only determined by the market maker alone. However, in the world of
foreign exchange trading, the traders can increase the size of the playing field,
thereby improving their chances of success in trading. This can be done by
using exits and stops, longer time frames, and trying for larger gains.
68. Do the Math
Assume that a trader is trading a currency pair that has a 3-pip spread, which
is also a very common size of the spread in the Forex market. If the trader just
wants to gain 10 pips, it is understood that he or she can lose the spread upon
entering the trade. And so, in order to turn a profit of 10 pips, the trader
actually requires the exchange rate to move 13 pips in his or her favor, thus 10
plus 3 equals 13.
Knowing what is required to create a winning trade can help traders know what
would have to happen to create an equivalent loss. This is also the method on
how traders can determine the odds of success or failure.
To create a loss of 10 pips, the trader would only require an adverse move of
7 pips. This is for the reason that a loss of 3 pips is acquired automatically upon
entering the trade, again due to the 3-pip spread.
It was also determined that the trader needs a positive move of 13 pips in
order to gain 10 pips, but a move of just 7 pips can result in an equivalent of 10
69. pips. The so-called raw odds of the 10-pip win versus the 10-pip loss for such
a trade can be expressed by: 13/7=1.857:1.
As such, the odds of the success in this example are 1.857:1. This only shows
that trying to make money trading for small gains is difficult, not to mention
that the playing field is too small. However, traders can improve the odds of
any trade by utilizing good strategies and solid risk management.
Changing the Equation
The traders can rearrange the odds, in order to attain a better chance to win at
currency trading, by making the playing field larger. If the traders are aiming
for larger gains, the spread becomes less essential part of the trade.
Once again, suppose a spread of 3 pips, only this time the trader will be hoping
to gain 100 pips as a replacement for just 10 pips. To turn a profit of 100 pips,
the trader actually needs the exchange rate to move 103 pips in his or her
favor, thus 100+3=103.
70. More so, to generate a loss of 100 pips, the trader would need an adverse
move of only 97 pips since a loss of 3 pips is incurred instantly upon trade
entry. The raw odds for this situation, which is a 100-pip win against a 100-pip
loss, can be expressed by: 103/97=1.06:1.
Noticeably, the odds are better because they are close to 50-50. However, if
the trader is using good trading techniques and risk management, he or she
can overcome these slightly negative odds.
The point of changing the equation is to understand that when the playing field
is larger, the odds of success also improve significantly. More so, traders who
are trying to achieve greater gains have the tendency to hold their trades
longer and consequently enter trades less frequently.
Reason Why Not Everybody Does It
Though the prospect of trading for larger gains is favorable, not everybody
does it. There are a couple of possible answers: first, these traders do not
understand that they are stacking the odds against themselves; and second,
71. they have damaging predetermined notions about the nature of trading itself.
The problem that most traders encounter is that trading is not always what
they believe it to be. Each trader has his or her own concept of trading, or even
what he or she likes trading to be. Although it is ideal for trading to provide
people with riches through minimal effort, trading strategies are not suited for
the ideal - they should be applied in the real trading world.
Summing it Up
Summing it Up
Being fixed on the percentage of winning trades versus losing ones is similar to
a disease and it cannot be easily cured. In trading, not all battles are won and
instead you should be willing to lose a few battles along the way. More
accurately, as a trader, you should be willing to deal with small losses in order
to avoid the creation of a large loss. A number of trading fiascos begin in the
unwillingness of the trader to accept a loss.
The Amateurs and the Professionals
72. In the judging of your performance record as a trader, an institutional
investment company will first agree on whether your results are due to your
outstanding decision making or from excessive risks. Take this for example;
there are two traders both with starting equity of $50,000. The first trader was
able to double the initial investment, thus resulting in a 100 percent gain,
although he suffered a drawdown of 50 percent along the way. On the other
hand, the second trader rose only to $60,000, which is only a gain about 20
percent, but his worst drawdown was only at 2 percent of the accounts value.
Although the first trader had the larger return, he is an accident waiting to
happen. Any trader who is willing to lose 50 percent is also an excellent
candidate to lose the account. Probably, the first trader was trying to hold on to
his losing trades, or even adds to them, which is normally a signal of failure in
trading the currency market.
The trader who can be considered superior is the second trader, since he was
able to attain considerable gains with minimal drawdown. Generally, the
institution would want to know just how much money can the second trader
could comfortably trade.
73. The Good Trade and the Winning Trade
In trading, it is important to always remember that the ends do not justify the
means. This only means that the outcome of the trade does not automatically
justify the method used to achieve that outcome. There are traders who take
the attitude that for as long as the trade wins, there is a good reason no matter
what rules were broken during the process.
The truth is, winning trades are not always good trades and vice versa. It is still
possible to perform everything incorrect and still achieve a triumphant result
on a specific trade, just as it is possible to do everything right and still lose the
trade.
Remember that, as a trader, it is important to strive to be a good trader
instead of a lucky one, since anyone can be lucky. More so, do not judge the
trading on any particular result, but rather on whether the process followed
proper protocols. If done correctly but still not trading successfully, at least
you will be able to resolve that the problem lies not with the execution but with
the plan.
74. Importance of Proper Execution
Take note that any good plan is useless without being executed properly.
Unfortunately, this is one area where most traders go wrong. Since they desire
to succeed, they make a plan and then randomly change it probably due to lack
of discipline. When failure occurs, the blame goes on the plan. In fact, the error
is not with the plan but with the execution.
When a trader moves from one technique to the next, most of the time, they
have no way of knowing if their plan actually works. When you successfully
followed a plan properly, it is important to do everything that can be done to
reinforce that behavior, despite the consequences of the outcome.
Also, never congratulate yourself for a successful trade outcome that came
from an ignored plan or unplanned at all. Instead, consider yourself lucky and
realize that it might be impossible for you to succeed in this manner again, in
the long run.
Taking Responsibility for the Actions
75. Several traders like to place blame. They would have people think that their
unfortunate trading records are due to exploitation on the part of the market
makers, institutions, or other outside influence.
Although dodging blame may be effective in dealing with other aspects of life,
like work, it is not conducive in performing good trading. Deflecting blame only
causes traders to remain the same and leave no space for change.
Additionally, by accepting that the fault lies with someone else, there is no
need for learning and growth.
Always remember to accept responsibility for every trade that you place. If you
are very open in taking credit for the winning trades, then you should also be
able to accept blame for any losing trades as well. Those individuals who
always fail to take responsibility for their own actions, or trades, have the
tendency not to succeed in the Forex market, or any trading environment for
that matter.
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